Gaining

Cost Advantage by
Fundamental Thinking and
Rationalization

ABSTRACT

Today, the fiercely competitive industry is leading consumers to expect better quality at
lower price or simply “more at less cost”. In this regard, most organizations focus on
reducing cost to improve the profit margin. Besides forcing the organizations to put pressure
on its costs, such organizations have a choice to think in a radically different way to innovate
for making products with least cost and best functionality.
About a century ago, Henry Ford revolutionized the automobile sector, by introducing the
concept of assembly line through the famous Model T. The concept did not alter the product,
but it significantly changed the process of manufacturing. Toyota followed the growth path
with sophisticated production philosophy keeping customer in mind & the function, a
component intended to achieve. It also gave thrust on quality, logistics and process, with its
unique Toyota Production System (TPS). This radical change in automobile manufacturing is
followed across all industry segments, and provides organizational direction to maintain High
Quality Standards with Lower Manufacturing Cost.
MSME INDUSTRIES IN INDIA

The Micro, Small and Medium Enterprises (MSMEs) play a pivotal role in the economic and
social development of the country, often acting as a nursery of entrepreneurship. They also
play a key role in the development of the economy with their effective, efficient, flexible and
innovative entrepreneurial spirit. The MSME sector contributes significantly to the country’s
manufacturing output, employment and exports and is credited with generating the highest
employment growth as well as accounting for a major share of industrial production and
exports.
MSMEs have been globally considered as an engine of economic growth and as key
instruments for promoting equitable development. The major advantage of the sector is its
employment potential at low capital cost. The labor intensity of the MSME sector is much
higher than that of large enterprises. MSMEs constitute more than 90% of total enterprises in
most of the economies and are credited with generating the highest rates of employment
growth and account for a major share of industrial production and exports. In recent years,
the MSME sector has consistently registered higher growth rate compared with the overall
industrial sector. With its agility and dynamism, the sector has shown admirable
innovativeness and adaptability to survive the recent economic downturn and recession.
The MSME sector in India is highly heterogeneous in terms of the size of the enterprises,
variety of products and services, and levels of technology. The sector not only plays a critical
role in providing employment opportunities at comparatively lower capital cost than large
industries but also helps in industrialization of rural and backward areas, reducing regional
imbalances and assuring more equitable distribution of national income and wealth. MSMEs
complement large industries as ancillary units and contribute enormously to the
socioeconomic development of the country.
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It is a fact that companies have to deal with many externalities like financial markets,
taxation systems, labor laws, infrastructure conditions, which can have impact on higher cost.
These being part of external environment for the organization cannot be controlled.
Therefore, the focus needs to be on controlling internal costs which include manufacturing
cost, quality cost etc., which finally define the product cost.
Product Cost is gaining increasing importance and is a point of differentiation in the market.
Marginal reduction on product cost can have noticeable impact on profit margin for the
organization. Consider the automobile industry; the cost of materials is generally around
70% of the overall expenses incurred by the companies. A marginal reduction of 1% in
material cost, can have impact of around 5% on the profit earned by the organization.

Increasing Pressure on Cost with Focus on decreasing

competition EBIDTA

TRADITIONAL APPROACHES

Every industry works on product cost reduction in some way or the other. Current initiatives
in cost reduction focus on the value proposition and are termed “value engineering” which is
a function oriented, systematic approach to analyze and improve the value of the product,
system or service. It is important for all of us to understand the nature of costs for any given
product. There has been no direct relationship between ‘cost’ (for the factory) and customer
‘value’ in use. Typically 80% of the cost of a product is determined when designs are
finalized. This includes cost of material, technology for processing, time for manufacturing
etc.

Identifying Classifying Developing Assigning

and Defining Functions Functional Cost to
Function Relationships Functions

The traditional approach of product cost reduction has been dominated by functional cost
assessment. While this approach often yields quick results, it may tend to have few
limitations:

a) The linkages between the functions often break down and, thus, rework cost may
increase and quality of service may be affected.

b) The reduction approach is focused on function. There is little regard for impact that
this approach can have on end-to-end process. This, thus can have unintended effects
than expected, when the actions are taken.
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c) Unsustainable savings, as the core of the process may no longer be available to

execute the process to quality requirement.

Hence, it is important for business organization to target for value-cost equilibrium. The
radical change, which seems to work out in current scenario, is “Innovation”.

NEW INNOVATIVE PRACTICES

There is a need to strategize and change from a traditional to an innovative model, to

questioning the existing model with different levers, like function, value, etc. This new
practice calls for identifying the functional requirement from other areas and linking it to the
product design. Google has been rated as the most innovative company, and has again come
with an innovation, which could all together change the way we commute.

There are number of examples available in nature, industries from other sectors and science,
which can offer and/or work for similar functions with different techniques. The idea here is
to think of similar functions from a different perspective and link the same to products. Thus,
this approach changes the perspective of “Cost Reduction” approach, as illustrated below.

Traditional Model New Model

Cost Plus Model Target Costing Model

Price = Cost + Profit Margin Price – Profit Margin = Cost

MODEL FOR INNOVATION IN PRODUCT COST RATIONALIZATION

A distinct approach would be to identify the actual functional requirement from the products
keeping this aligned with the job the customer intends to do. The Voice of the Customer is
classified and listed into the correlation matrix, which provides the design requirement of the
product.
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The illustration below shows a framework by which the deserved and undeserved needs of
the customer can be identified, based on the importance and satisfaction, as expected by the
customer. This framework provides an opportunity for cost reduction in systematic way.
Satisfaction

Cost Reduction
Opportunity

JOB TO BE DONE AND OUTCOME EXPECTATIONS:

Designing with the intention of looking at the customer’s job opens up high opportunities for
looking at alternative solutions. This approach lists all functional requirements of the
component.

Step-By-Step tearing down the functional analysis of the component and Estimated Cost
Divided per function as per customer importance will provide an insight about the potential
Cost Reduction estimation. Fixture System

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Identification of the undeserved component provides an opportunity for cost reduction. This
approach can substantially reduce the cost when compared to current cost of component.
Additionally, various tools can also be used in rationalizing the product cost.

TRIZ (THEORY OF INVENTIVE PROBLEM SOLVING) & BIO-MIMICRY

The concept of innovation TRIZ suggests that abstracted problems and their related solutions
can be mapped irrespective of their subject matter.

At next level of Technological developments, the concept of Bio-Mimicry can also be

incorporated into the product design features. This aims for using available functions from
Nature, with systematic approach in Product design as illustrated below.

Bio-mimicry Model Key Components of a Enterprise of the Future

Bio-mimicry Hub

The most recent example, which uses Bio-Mimicry into Manufacturing, can be of 3D
printers. The Shells and Bones are constructed using the layer-by-layer deposition of
common minerals. The same concept is used in development of 3D printers, which is all set
to revolutionize manufacturing industry. The application is currently limited to prototyping
and customized requirements of components; sooner or later it will be deployed into mass
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The image below is of an Engine Part printed with 3D printer. The Mass Production with 3D
printer will be the next big revolution on the anvil.

CONCLUSION

Andre Gide, once said ”You cannot discover new oceans unless you have the courage to lose
the sight of the shore”. To make this happen, fundamental changes are needed, accompanied
by change in perspectives of organizations.

For business entities in India, the challenge of maintaining profit margins is huge and
Business Model Innovation is the way forward to work on Product Cost rationalization,
making a shift from the traditional approach of optimizing Product cost. The difference
between an Innovative and Follower organization can be quite subtle yet yields significant
results. The opportunity to be creative and explore possibilities is extremely powerful.
Applying simple frameworks for innovation can deliver significant financial gains to the
organization.

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About Breakthrough Management Group International, India

Breakthrough Management Group International (BMGI), is a global consulting firm with a

strong focus on delivering results and partners with organizations in various stages of their business
life cycle to transform their business performance. BMGI enables businesses drive growth and
improve profitability. Headquartered in the US, BMGI has developed a loyal clientele that today
exceeds 200 active clients. BMGI has delivered cumulative benefits to its clients worth several billion
dollars with an ROI of 5:1 to 20:1.

BMGIs services enable business success includes strategy planning and deployment, Innovation,
Problem Solving (Lean Six Sigma) and Business Transformation.

In India, BMGI is located in Mumbai. BMGI clients are leading Fortune 1000 Global companies and
leading Indian companies from diverse industries such as financial services, IT/ITES, airlines,
chemicals, FMCG, discrete manufacturing, telecommunications, petrochemical, textiles,
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General Dynamics. Indian clients include ITC, Reliance Industries, Vodafone, HDFC Bank,
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BMGI Innovation consultants have been working with companies to design new approaches, foster
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Breakthrough Management Group International, India

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